By Lisa Brignoni, CFA
In the world of financial planning, some professionals avoid discussing markets and economics with their clients. They consider these topics overly complex, irrelevant, or more suited to traditional brokers or investment managers.
Nothing could be further from the truth. The reality is that, good or bad, clients have more access to market news than ever. While financial planning should always be the main focus, every planner knows that it’s important to prevent clients from being derailed by short-term market events. As a result, helping clients to cut through the noise and build a solid understanding of the market and economic landscape is the foundation of long-term planning. With the right tools, all financial planners can tackle these topics.
In this article, we’ll discuss 3 simple examples where planners can help clients understand markets and improve the financial planning process: looking past short-term market events, staying diversified and understanding the economic landscape.
Building long-term discipline
As the saying goes, “time in the market is more important than timing the market.” Financial planners understand that staying invested and being properly allocated throughout market cycles is more important than reacting to short-term performance. But how do you reinforce this concept with clients through changing market environments? Consider these scenarios:
- Your clients, who are nearing retirement, don’t want to rebalance their portfolio because the stock market has performed well. They believe they’ll continue to see the same returns and don’t want to miss out.
- A client is starting her first job and is thinking about investing in her company’s 401k. However, having witnessed a recent drop in the stock market, she wants to wait until the market begins to recover.
These are natural reactions to market events – in both good times and bad. However, in both cases, these emotional responses could derail their long-term financial plans.
By educating clients on the markets, it’s possible to keep them focused on the long-term horizon. Conveying this message visually, with clear takeaways, can further help. For instance, the following chart on stock market returns and pullbacks shows that, despite intra-year declines in the stock market, most years still end up with a positive return. Thus, attempting to time the market can have negative consequences for an investor’s financial plan.
Staying balanced is an on-going conversation
In theory, diversification sounds like a good thing to most clients. However, when they are experiencing the real-time effects of volatility in their own portfolios, maintaining balance can be a challenge. For example:
- Your client feels uneasy about geo-political headlines (North Korea, China, Brexit, etc.) and believes it’s time get out of all international investments.
- Your client explains that he recently read an article about how diversification doesn’t work anymore and he’d like to consider concentrating his portfolio in domestic stocks.
In this first case, the clients are being influenced by short-term news. Reminding them of how diversification works through all market environments may be helpful, in addition to addressing their specific concerns. The following chart shows that although the U.S. stock market has outperformed recently, there are many periods when international markets do better – despite worrisome headlines.
In the second case, it’s true that proper diversification does result in some “losers” in a portfolio. However, the whole portfolio benefits as a result. By combining a variety of uncorrelated assets, the overall portfolio is stronger than if it held only a single asset class. The following chart also shows that a diversified portfolio is always in the middle of the pack by design – never the best, but more importantly, never the worst. This stability is critical to achieving long-term goals.
Making sense of a complex world
Discussing the economic environment with clients may often feel like a theoretical exercise. By using concrete and compelling visuals with crisp talking points, economic conversations can reinforce long-term financial plans.
For instance, tax reform is a current topic of interest that can be broken down into concrete discussions. For instance, the market has focused on the corporate tax rate. By lowering the corporate tax rate to 21%, from 35%, U.S. companies are now more competitive than most industrialized countries. Of course, there can be much more complexity to the issue, but this is one way to simplify the conversation while addressing your client’s concerns.
Keeping clients focused on their long-term plans is a challenge for all financial planners. With so much access to financial data and news, it can be difficult for clients to focus on what’s important. This means that planners can be powerful resources for their clients not only by way of financial planning, but by bridging financial goals and market realities.
For more insights on how to translate the bigger financial picture from market events, visit our article: How to Weave Markets Into Client Conversations.